Embed Size (px)
Citation preview
CORPORATE TAX POLICY, FOREIGN FIRM OWNERSHIP AND THIN CAPITALIZATION
CLEMENS FUEST THOMAS HEMMELGARN
CESIFO WORKING PAPER NO. 1096 CATEGORY 1: PUBLIC FINANCE
DECEMBER 2003
An electronic version of the paper may be downloaded • from the SSRN website: www.SSRN.com • from the CESifo website: www.CESifo.de
CESifo Working Paper No. 1096
CORPORATE TAX POLICY, FOREIGN FIRM OWNERSHIP AND THIN CAPITALIZATION
Abstract This paper analyzes the implications of foreign firm ownership and international profit shifting through thin capitalization for corporate tax policy. We consider a model of interjurisdictional tax competition where the corporate tax serves as a backstop to the personal income tax, interest on debt is deductible from the corporate tax base and multinational firms may shift profit across countries through thin capitalization. We show that the problem of thin capitalization induces countries to reduce their corporate tax rates below the personal income tax rate and to broaden their tax bases. Moreover, foreign firm ownership leads to a reduction in corporate tax rates. We also show that there is scope for welfare enhancing tax coordination in our model. In the presence of both foreign firm ownership and thin capitalization, countries gain from a coordinated increase in corporate tax rates or from a coordinated broadening of the tax base.
JEL Classification: H21, H77, G32.
Keywords: tax competition, income shifting.
Clemens Fuest Seminar für Finanzwissenschaft
Universität zu Köln Albertus-Magnus-Platz
50923 Köln Germany
Thomas Hemmelgarn Seminar für Finanzwissenschaft
Universität zu Köln Albertus-Magnus-Platz
50923 Köln Germany
[email protected] We thank two anonymous referees for their valuable comments. The usual disclaimer applies.
1 IntroductionIn recent years, corporate tax policy in most industrialized countries has been characterizedby a trend towards lower tax rates and broader tax bases. In the literature, this trend hasbeen explained as a reaction of national tax policies to border crossing capital mobility andan increasing importance of multinational …rms. There are several reasons why the existenceof multinational …rms is thought to have an impact on national corporate tax systems.1
Firstly, when making their location decisions for investment projects, these …rms usuallyconsider locations in di¤erent countries. Tax considerations are of course not the only factordetermining these location decisions, but they are an important one. From the perspective ofnational tax policy, this gives rise to competitive pressure as countries try to attract …rms.
Secondly, multinational …rms may shift pro…ts across countries without changing the loca-tion of their real investment. This may be done either via transfer price manipulation (Hau‡erand Schjelderup (2000)) or thin capitalization, where …rms increase the amount of debt …n-ancing in high tax countries in order to bene…t from the deductibility of interest from thecorporate tax base (Mintz and Smart (2001)). It is intuitive that international pro…t shiftingalso leads to downward pressures on national corporate tax rates.
A third important characteristic of multinational …rms is that the ownership of these …rmsusually spreads over many countries. This implies that multinational …rms often operate incountries other than those where their owners reside. Foreign …rm ownership is usually thoughtto act as a break on the downward pressure on corporate tax rates caused by tax competition(Huizinga and Nielsen (1997)).
This paper reconsiders the implications of foreign …rm ownership and international pro…tshifting through thin capitalization for corporate tax policy. The analysis leads to three mainresults. Firstly, it turns out that foreign …rm ownership leads to a reduction rather than anincrease in corporate tax rates. Secondly, the existence of international pro…t shifting throughthin capitalization induces countries to reduce their tax rates and to broaden their tax bases.Thirdly, we show that there is scope for welfare enhancing tax coordination in our model. Inthe presence of both foreign …rm ownership and income shifting through debt, countries gainfrom a coordinated increase in corporate tax rates or from a coordinated broadening of thetax base.
How are these …ndings related to the existing literature? The papers most closely relatedto our analysis are Hau‡er and Schjelderup (2000), Bond (2000) and Huizinga and Nielsen(1997, 2002). Hau‡er and Schjelderup (2000) consider a model where …rms earn supernormalpro…ts and may manipulate transfer prices to shift pro…ts across countries. In the absenceof pro…t shifting, countries would levy a cash ‡ow tax which avoids a distortion of marginalinvestment but taxes pure pro…ts at a con…scatory rate of 100%. However, if …rms may shiftincome across jurisdictions, they can avoid the con…scatory taxation of pure pro…ts, so thatcountries are forced to reduce their tax rates. As a result, pure pro…ts are partly untaxed.Given this, it is optimal to tax these pro…ts indirectly by broadening the tax base, even at thecost of distorting domestic investment. Bond (2000) argues that multinational …rms often facea discrete investment choice. For instance, this may be the choice between serving a domesticmarket either by producing in the country or by locating in another country and serving thedomestic market via imports. This implies that the average rather than the marginal tax ratebecomes relevant for the location decision. If, in addition, an investment project generatessupernormal pro…ts, high statutory rates may deter investment despite generous depreciation
1For a survey on the taxation of multinational …rms see Gresik (2001).
1
allowances. Both papers thus provide an explanation for the observed tax rate cut cum basebroadening policies.2
Our analysis di¤ers from these papers in several respects. Firstly, our model does not relyon the existence of pure pro…ts so that the corporate income tax does not have the function oftaxing pure pro…ts. Secondly, we consider income shifting through debt, rather than transferpricing. Thirdly, the reasons for and the e¤ects of tax rate cut cum base broadening policiesare di¤erent in our model. In particular, the broadening of the tax base in Hau‡er andSchjelderup (2000) deliberately distorts domestic investment, whereas the broadening of thetax base in our model aims at restoring production e¢ciency.
Our result that foreign …rm ownership reduces corporate tax rates is diametrically opposedto the …ndings in Huizinga and Nielsen (1997), who …nd that foreign …rm ownership tends toincrease corporate taxes. The reason for this di¤erence in results is that, in our model, thecorporate tax has the function of serving as a backstop to personal income taxes while thecorporate tax in Huizinga and Nielsen (1997) is e¤ectively a tax on economic rents. In theirmodel, these rents partly accrue to foreigners. Therefore host countries have an incentive toraise their corporate tax rates above the level they would choose in the absence of foreign …rmownership.3 Huizinga and Nielsen (1997) also …nd that a coordinated reduction of corpor-ate taxes increases welfare in their model whereas our analysis leads to the opposite result.Huizinga and Nielsen (2002) extend the model in Huizinga and Nielsen (1997) by consideringthe case where residence based taxes on portfolio investment cannot be implemented. In thisframework, it turns out that the welfare e¤ect of a coordinated reduction of tax rates becomesambiguous.4
The rest of the paper is set up as follows. In the next section, we present the model. Insection 3, we analyze the optimal tax policy under tax competition, under di¤erent assump-tions on foreign …rm ownership and the availability of income shifting opportunities. Section4 considers the potential for welfare enhancing tax coordination. Section 5 concludes.
2 The ModelConsider a union of n small open economies. Capital is internationally mobile both withinthe union and between the union and the rest of the world. Each country in the union isthe home country of many internationally immobile households and hosts real investment ofa large number of multinational …rms. For notational convenience, the number of householdsper country and the number of multinational …rms are normalized to unity.
2A third, information based explanation for tax rate cut cum base broadening policies is suggested byOsmundsen, Hagen, and Schjelderup (1998), who consider a world where …rms face di¤erent mobility costsand the government cannot observe …rm speci…c mobility. In this framework, it turns out that a corporate taxsystem with broad bases and low tax rates improves the incentives for …rms to reveal their true type.
3Olsen and Osmundsen (2001) derive a similar result in an imperfect information setting. Kind, Midelfart,and Schjelderup (2003) …nd the same e¤ect of foreign ownership in a model with trade costs.
4Foreign ownership of domestic factors of production is also analysed by Richter and Wellisch (1996), inthe context of household mobility, and by Wildasin and Wilson (1998), who show that con…scatory taxationof rents in the presence of foreign …rm ownership may hinder risk diversi…cation.
2
2.1 HouseholdsHouseholds live for two periods. In the …rst period, they receive an exogenous endowment Eand a dividend D1
5 which may be used for …rst period consumption C1 or savings S.6 The…rst period budget constraint is
E +D1 = C1 +S. (1)
In the second period, the household supplies L units of labour and receives another dividendD2. The second period budget constraint is
C2 = (1 + r (1¡ t))S + D2 + w (1¡ T)L (2)
where C2 is second period consumption, r is the interest rate in the international capital mar-ket, t is the tax rate on savings, w is the wage rate and T is the tax rate on labour income. Thehousehold’s utility function is given by U (C1, C2,L) and has the usual neoclassical properties.Denote the present value of the dividends accruing to the domestic household by P . Using
P = D1 +D2
(1 + r (1¡ t))
and de…ning savings net of dividends received in period 1 as S¤ = S ¡ D1, we can write thebudget constraints in (1) and (2) as
E = C1 + S¤ (3)
andC2 = (1 + r (1¡ t)) (S¤ + P ) +w (1¡ T)L (4)
The household maximizes U (C1, C2, L) subject to (3) and (4). This yields the standard results
∂U∂C1
¡ ∂U∂C2
(1 + rn) = 0 (5)
and∂U∂C2
wn +∂U∂L
= 0 (6)
where wn = w (1¡ T) and rn = r (1 ¡ t) . (5) and (6) de…ne the (modi…ed) savings functionS¤ = S¤ (rn, wn, P ) and the labour supply function Ls = Ls (rn, wn, P ) . The household’sindirect utility function is denoted by V (rn, wn, P ) and has the properties V1 (rn, wn, P ) =λ (S¤ +P ), V2 (rn, wn, P ) = λL, V3 (rn, wn, P ) = λ (1 + r (1 ¡ t)), where λ is the marginalutility of second period income.
2.2 FirmsWe assume that the representative multinational …rm is endowed with retained earnings Rand that it operates in each of the n countries in the union. In each country j, j = 1..n, the…rm invests Kj in period 1. In period 2, the …rm employs Lj units of labour in each countryand produces an output F (Kj, Lj)+Kj. We assume that F (Kj, Lj)+Kj is linear-homogenousin Kj and Lj.
5We abstract from dividend taxes, for reasons which will be discussed further below.6 In order to reduce notation, we drop country indices if possible.
3
The …rm’s investment may be …nanced by retained earnings or debt. New equity as asource of …nance is ruled out.7 Retained earnings which are not used to …nance investmentare distributed to the owners. The …rm’s pro…t distribution in period 1 is given by π1 = R¡Pn
i=1 (1¡ αi)Ki, where αj is the share of investment in country j …nanced by external debt.8Next to external debt, the …rm may also use internal debt. The main di¤erence to external
debt is that internal debt does not increase dividend distributions. Internal debt is used toavoid corporate taxes. Rather than using equity to …nance investment directly, the …rm mayendow a subsidiary in a tax haven country which we assume to be a country outside theunion with equity. The subsidiary then borrows its funds back to the parent company.9 Thisimplies that corporate income takes the form of interest payments, which are deductible fromthe corporate tax base. To make things simple, we assume that the corporate tax rate inthe tax haven country is zero. Moreover, in all countries, foreign pro…ts are assumed to beexempt from domestic corporate tax, so that pro…ts of the subsidiary in the tax haven canbe repatriated tax free.10 Under these assumptions, the …rm’s reduction in tax costs fromreplacing one Euro of equity in country j by internal debt is simply equal to the country’scorporate tax rate τ j. In the following, we denote the share of internal debt in the …rm’sinvestment in country j by σj.
Apart from tax considerations, there are nontax costs and bene…ts associated with the…nancial structure of …rms. We assume that the nontax costs and bene…ts of …nancing inour model can be summarized in a cost function which is given by r
Pni=1ª (αi, σi)Ki ,
where ª(α, σ) is a function with the following properties: ªα (α¤, σ) = 0, ªα (α, σ) > 0 ifα > α¤,ªα (α, σ) < 0 if α < α¤ and ªαα (α, σ) > 0, where 0 < α¤ < 1 . Moreover, weassume that ªασ (α, σ) = 0,ªσ (α, 0) = 0,ªσ (α, σ) > 0 if σ > 0,ªσ (α, σ) < 0 and if σ < 0ªσσ (α, σ) > 0. These assumptions essentially imply that there is a share of external debtα¤ which is optimal in the absence of taxes, given σ. Of course, without taxes, we also haveσ = 0. If …rms deviate from α = α¤ and σ = 0, they face increasing marginal nontax costs ofdistorting their …nancial structure.
Given that the function ª (α, σ) is important for the following analysis, it is necessaryto justify the assumptions made on ª (α, σ) , in particular the convexity in α and σ. Theassumption that ª(α, σ) is convex in α follows Mintz and Smart (2002) and may be interpretedas a result of informational asymmetries between outside investors and managers of the …rm.For instance, of there is too little external debt, managers may use the …rm’s cash ‡ow topursue empire building strategies (Hart (1993)). An increase in external debt reduces thecash ‡ow controlled by managers. But if there is too much debt, the …rm may go bankrupt,
7This is in line with the empirical fact that the role of new equity for the …nancing of investment is small,see e.g. Bond (2000).
8Note that the dividend which accrues to the representative household in country j in period 1 is given byD1j = βjπ1, where β j is the share in the multinational …rm’s equity owned by the household in country j.
9Real world tax avoidance through internal debt will of course be more subtle but the model capturesthe essentials of the process. Often, tax avoidance through thin capitalization involves so-called “double dip”transactions, where the funds used to endow foreign subsidiaries are borrowed in high tax countries to generateadditional interest deductions, see Fuest, Huber, and Mintz (2003).
10One might object here that exemption may be denied for pro…ts repatriated from tax haven countries whichhave no double taxation agreements with the country where the parent company resides. But tax avoidancethrough internal debt is also possible by using special tax arrangements o¤ered by countries covered by doubletaxation agreements. One example is the Belgian Financial Coordination Center (Malherbe (2002)). Even ifexemption is denied, the deferral of tax obligations may be su¢cient as an incentive to use internal debt asan income shifting device. For an analysis of tax competition where foreign pro…ts are taxed according to thecredit system or the deduction system see Fuest and Huber (2002).
4
which gives rise to bankruptcy costs. Consider next the cost associated with internal debt.In the theoretical literature on the economic role of internal debt, the view is widespreadthat internal debt is primarily a tax saving instrument (see e.g. Chowdhry and Nanda (1994)and Chowdhry and Coval (1998)). Recent empirical work by Desai, Foley, and Hines (2003)con…rms this view but also shows that, despite the tax advantage, the use of internal debthas its limits, i.e. internal debt is usually combined with external debt and equity. Oneexplanation for the fact that multinational …rms cannot use internal debt without limits isthat tax authorities are aware of the pro…t shifting opportunities o¤ered by internal debt.Therefore, many governments have introduced anti tax avoidance laws in order to limit pro…tshifting.11 For instance, German corporate tax law includes a rule (§8a, KStG) wherebyinterest deductions for internal debt will only be granted if the credit would also have beengranted by third parties. Similar rules exist in the UK (see Rowland (1995)) and in the US (seeLevin (1994)). These rules leave some discretion to tax authorities and courts in dealing withinternal debt. It is plausible to assume that the chances of …rms to avoid the application of antitax avoidance legislation will be better, the smaller the share of internal debt in overall assets.Also, the amount of advice by tax consultants required to achieve a deduction for interest oninternal debt is likely to be convex in the level of internal debt. Our model captures this byassuming that ª (α, σ) is convex in σ.
The …rm’s second period pro…ts are thus given by
π2 =nX
i=1
[(1¡ τ i) (F (Ki, Li) ¡ wiLi ¡ ª (αi, σi) rKi) +Ki]
¡ (1 + r)nX
i=1
αiKi + rnX
i=1
(αi + σi)Kiτ i +nX
i=1
εiKiτ i (7)
where εi is a parameter describing the depreciation allowances of the tax system in country j.True economic depreciation implies εi = 0. Accordingly, εi < 0 implies less than economic de-preciation whereas εi > 0 would characterize a tax system with accelerated depreciation. Thelowest possible value for εi is εi = ¡1, which would describe the extreme case where investmentgoods cannot be depreciated for tax purposes at all. The …rst term on the right hand sideof (7) represents output minus wage payments minus …nancing costs and the tax free capitalrepayment Ki. The second term is the payment of credit plus interest on external debt. Thethird term represents the interest deductions on overall debt and the fourth term representsthe value of depreciation allowances as far as they deviate from economic depreciation.
The …rm maximizes the present value of the dividends paid to the owners. Since there maybe owners in di¤erent countries who may face di¤erent capital income tax rates, the questionarises how the …rm determines the opportunity cost of investment and, hence, the relevantdiscount rates. We simply assume that the …rm uses a weighted average of the di¤erentdiscount rates12, so that the objective function of the …rm is
¦ = π1 +π2Pn
i=1 βi(1 + r(1¡ ti))(8)
where βj, j = 1...n, is the ownership share of the representative household residing in countryj . Using π1 = R¡ Pn
i=1 (1¡ αi)Ki, substituting (7) into (8) and maximizing (8) over Lj and11For an analysis of the impact of anti tax avoidance measures on the cost of capital of foreign subsidiaries
see Weichenrieder (1996).12To the extent that the following analysis applies to the case with owners residing in di¤erent countries,
we will concentrate on symmetric equilibria, so that owner heterogeneity does not play an important role.
5
Kj yields∂F (Kj, Lj)
∂Kj= φj (9)
∂F (Kj, Lj)∂Lj
= wj (10)
whereφj ´
·rª (αj, σj) +
r (1¡ (αj + σj)τ j ¡ (1 ¡ αj)Pn
i=1 βiti) ¡ εjτj
1¡ τ j
¸
is the cost of capital for investment in country j . Maximization of (8) over αj and σj yields:
ªα(αj, σj) =τ j ¡ Pn
i=1βiti1¡ τ j
(11)
andªσ(αj, σj) =
τ j
1 ¡ τj(12)
While (9) and (10) are standard marginal productivity conditions, (11) and (12) describe theoptimal …nancial structure of the …rm. In the absence of taxes, the …rm minimizes the nontaxcost of …nancing by setting α = α¤and σ = 0. If taxes exist but τ j =
Pni=1 βiti, the tax system
is neutral with respect to the …rm’s choice of external debt because the tax advantage of debtcaused by the deductibility of interest at the corporate level is neutralized by the taxation ofinterest income at the personal level. In contrast, if τj <
Pni=1 βiti, the tax system distorts the
…nancial structure in favour of equity and vice versa. Of course, as (12) shows, any positivecorporate income tax will give rise to income shifting via internal debt (σ > 0).
Given the assumption that the production function is linear-homogenous in K and L,which implies F (Ki, Li) ¡ wiLi = ∂F (Kj,Lj)
∂KjKj = φjKj, equations (9) to (12) determine the
functions αj = αj(τj, t), wj = wj(φj) and Kj = Kj(φj, L) . In equilibrium, employment ise¤ectively determined by the labour supply function, i.e. Lj = Ls
j(rn, wn, P ). The constantreturns to scale assumption implies that there are no (supernormal) pro…ts. Using (9) to (12),it is straightforward to show that, in equilibrium, ¦ = π1 + π2Pn
i=1 βi(1+r(1¡ti))= R, i.e. the
present value of the …rm’s stream of dividends is equal to the …rm’s endowment with retainedearnings.
2.3 The governmentThe government has to …nance a given level of public expenditures (G) using the wage tax,the tax on personal savings and the corporate income tax.13
The government budget constraint is
Gj = (wj ¡ wnj )Lj + rtjSj + τ j[F (Kj, Lj)¡ wjLj ¡ ª (αj, σj) rKj
¡r(αj + σj)Kj ¡ εjKj] (13)
The …rst and second terms on the right hand side of (13) represent the revenue from the labourand savings income tax. The third term represents revenue from corporate income taxation.
13We abstract from dividend taxes because, in line with the “new view” of dividend taxation, dividend taxeswould be neutral in our model. Adding dividend taxes would imply that the government will receive somerevenue from a non-distortionary tax. But the main results of our analysis would not change.
6
Using Sj = S¤j +Dj1 = S¤j +βj(R¡ Pni=1(1¡αi)Ki) and F (Ki, Li)¡wiLi = φjKj, the budget
constraint can be written as
Gj =¡wj ¡ wn
j¢Lj + rtj
¡S¤j + βjR
¢+ τjKj
£φj ¡ ª (αj, σj) r ¡ r (αj + σj) ¡ εj
¤
¡rβjtjnX
i=1
(1 ¡ αi)Ki. (14)
3 The optimal tax policy under tax competitionIn this section, we derive the optimal tax policy in our model. The government of each countrymaximizes the utility of the representative citizen and takes the tax policy of all other countriesas given. It is convenient to formulate the maximization problem of the government in thefollowing way:
maxwn
j ,tj,φj,τ j,εjV (rn, wn, P )
s.t.
Gj = (wj ¡ wnj )Lj + rtj(S¤j + βjR) + τjKj[φj ¡ ª (αj, σj) r ¡ r(αj + σj) ¡ εj]
¡rβjtj
nX
i=1
(1 ¡ αi)Ki.
φj ´·rª (αj, σj) +
r (1¡ (αj + σj)τ j ¡ (1 ¡ αj)Pn
i=1 βiti) ¡ εjτj
1¡ τ j
¸
εj ¸ ¡1
The formal derivation of the optimal tax policy is given in the appendix. In the text, we onlypresent the results and discuss their economic implications. Our main interest is to analyzethe consequences of foreign …rm ownership and income shifting through internal debt for theoptimal tax policy of the individual countries. Moreover, we ask whether there is scope forpolicy coordination among the member states of the union. We therefore proceed in four steps.We start by considering the optimal tax policy of an individual country where the domestichousehold fully owns the multinational …rm and no internal debt exists. We then considerthe case where …rm ownership is symmetric, i.e. the representative household in each countryowns a share 1/n in the …rm’s equity. The third step is to allow for income shifting. Finally,we will analyze the potential for welfare enhancing policy coordination.
3.1 No internal debt, no foreign …rm ownershipThis case refers to a situation where the ownership of the multinational …rm is concentrated inone country. We refer to this country as country 1. The possibility of income shifting throughdebt is ruled out. The optimal tax policy of country 1 may be characterized by the following
Proposition 1 If income shifting through internal debt is ruled out (σ = 0) and if the mul-tinational …rm is fully owned by the domestic household (β1 = 1), the optimal tax policy incountry 1 is given by τ 1 = t1, ε1 = 0,
γ ¡ λγ
L1 ¡µ
rt1∂S¤
∂wn1+ (w1 ¡ wn
1 )∂L1
∂wn1
¶= 0 (15)
7
and
γ ¡ λγ
[S¤ +R] ¡µ
rt1∂S¤
∂rn + (w1 ¡ wn1 )
∂L∂rn
¶¡
nX
i=2
(1¡ αi)Ki
+t1nX
i=2
∂αi
∂t1Ki = 0 (16)
Proof: See the appendix.
The interpretation of the results in proposition 1 is as follows. Firstly, the corporateincome tax rate is equal to the tax rate on income from personal savings. This re‡ects thatthe corporate income tax in our model has the function to prevent that taxpayers avoid thesavings tax by deferring the distribution of pro…ts. They can defer pro…t distributions either byincreasing the share of equity …nancing or by increasing the level of the …rm’s real investment.The optimal tax policy sets τ1 = t1 in order to avoid distortions of …nancial structure or realinvestment.
The level of the savings tax and the labour income tax are determined by the usual trade-o¤ between the necessity to raise tax revenue and the distortions of savings and labour supplydecisions which characterizes a second best optimal tax system. These considerations arere‡ected by the …rst two terms on the left hand side of equations (15) and (16). The thirdterm on the left hand side of (16) re‡ects that part of the household’s savings e¤ectively consistof retained earnings which the …rm uses to …nance real investment in other countries. Whilesavings in the form of domestic, equity …nanced real investment are taxed via the corporateincome tax, savings in the form of equity …nanced real investment abroad escape domestictaxation. There is nothing the government can do about this in our model. The fourth termon the left hand side of (16) re‡ects that an increase in the domestic savings tax will inducethe multinational …rm to increase the amount of equity …nanced investment abroad, so thatthe domestic tax base is reduced further. The result that the government sets ε = 0, togetherwith τ = t, implies that production e¢ciency is preserved, i.e. the cost of capital is the sameas in the absence of taxes: φ1 = r (1 + ª)
3.2 The impact of foreign …rm ownershipAssume now that the ownership of the …rm is symmetrically distributed among all countries,so that the representative household in country j only owns a share βj = 1/n of the …rm’sequity. As in the preceding section, we assume that income shifting through internal debt isruled out. The optimal levels of the tax on labour income and the personal tax on savings areagain determined by standard optimal tax considerations as described above. We thereforeconcentrate on the corporate tax system. Here we may state
Proposition 2 If …rm ownership is distributed symmetrically among all countries¡βj = 1/n, j = 1..n
¢and income shifting is ruled out, the optimal tax policy of country j
implies τj < tj and εj = 0. Real investment is subsidized: φj < r(1 + ª).Proof: See the appendix.
Interestingly, while the government sets τ j = tj if the household entirely owns the …rmsoperating within the country, we now have τ j < tj, which implies that foreign …rm ownership
8
reduces the corporate tax rate and leads to a situation where investment is e¤ectively subsid-ized. This happens for the following reason. The corporate income tax has the function toprevent that households avoid personal income taxes by increasing equity …nancing and over-investing in the domestic corporate sector. The government designs the corporate income taxsystem so that the e¤ect of a marginal change in domestic investment Kj on the governmentbudget constraint is zero. Given the …nancial structure αj, an increase in domestic investmentby one Euro reduces dividend distributions to and, hence, private savings of domestic house-holds in period 1 by βj(1 ¡ αj) Euros. As a result, the revenue from the savings tax declinesby rtβj (1¡ αj). The optimal corporate tax neutralizes this revenue loss. But if the domesticownership share βj is small, the optimal corporate income tax declines. In our model, if napproaches in…nity, i.e. the ownership share of the domestic household in the …rms operatingdomestically becomes negligible, the optimal corporate tax rate approaches zero.
The result that the corporate tax rate declines as foreign ownership of domestic …rmsincreases is diametrically opposed to the …ndings in Huizinga and Nielsen (1997), where foreign…rm ownership leads to higher corporate tax rates. The reason for this di¤erence is that thecorporate tax in Huizinga and Nielsen (1997) has a di¤erent economic function. In theirmodel, …rms earn supernormal pro…ts which cannot be taxed directly. Therefore, a corporatetax which distorts investment is used as an indirect way of taxing these pro…ts. If foreign …rmownership increases, an increasing share of pro…ts generated domestically accrues to foreigners,so that the burden of domestic corporate taxes also partly falls on foreigners. Consequently,more foreign …rm ownership increases the optimal corporate tax rate. In our model, this typeof tax exporting motive does not exist.
3.3 Income Shifting without foreign …rm ownershipWe now consider the case where …rms may use internal debt to avoid domestic corporateincome taxes. In order to be able to focus on the role of income shifting, we abstract fromforeign …rm ownership by considering the case where the household of country 1 owns 100% ofthe multinational …rm’s equity. As in the preceding section, we focus on the optimal corporatetax policy which is summarized by
Proposition 3 If …rms may use internal debt for income shifting and if …rm ownership isconcentrated in country 1 (β1 = 1), the optimal tax system implies τ 1 < t1 and ε1 < 0.Production e¢ciency is preserved: φ1 = r (1 + ª1).Proof: See the appendix.
It turns out that the existence of income shifting induces governments to reduce the cor-porate tax rate and at the same time to broaden the tax base by curtailing depreciationallowances. This may be explained as follows. The government wants to reduce the corporatetax rate in order to limit the incentives to shift income to tax havens via internal debt. Butreducing the corporate tax rate below the income tax rate distorts the choice between equityand external debt in favour of equity. The optimal corporate tax rate re‡ects the trade-o¤between the aims of reducing income shifting and the desire to limit the distortion of the…nancial structure of …rms in favour of equity.14 Next to the e¤ect on the …nancial structure
14The existence of external debt thus acts as a break on corporate tax rate reductions. A referee raised thequestion of how the results would change if we assumed that …rms did not use external debt at all. In thiscase, it can be shown that the government would set τ < t and ε = ¡1, i.e. the pressure to broaden corporatetax bases and to reduce tax rates would increase. The proof for this result is available from the authors onrequest.
9
of the …rm, the reduction of the corporate tax rate below the income tax rate t also impliesthat the domestic tax system subsidizes domestic real investment. Since such a subsidy isnot desirable, the government reduces depreciation allowances (εj < 0) in order to restoreproduction e¢ciency.
How is the result in proposition 3 related to explanations for tax rate cut cum base broad-ening policies existing in the literature? Hau‡er and Schjelderup (2000) consider a modelwhere …rms make pure pro…ts and may use transfer pricing to shift these pro…ts to tax havencountries. Without pro…t shifting via transfer prices, national governments would levy cash‡ow taxes which allow to tax pure pro…ts at 100% without distorting the marginal invest-ment decision. If however …rms can avoid a con…scatory taxation of their pro…ts by shiftingpro…ts to other countries, countries will reduce their tax rates below 100% in order to limitthe incentives for income shifting. But given that pure pro…ts are now partly untaxed, it isno longer optimal to preserve production e¢ciency. Instead, countries broaden their tax basesand deviate from production e¢ciency. The di¤erence to our results is that, in our model,there are no supernormal pro…ts and, more importantly, the broadening of the tax base aimsat restoring production e¢ciency rather than deviating from it.
Bond (2000) explains the tax rate cut cum base broadening policy as re‡ecting the viewthat multinational …rms make discrete investment decisions which are guided by average ratherthan marginal tax rates. Osmundsen, Hagen, and Schjelderup (1998) consider a world where…rms di¤er with respect to their mobility and corporate tax policy is plagued by problemsof asymmetric information. In this framework, a tax rate cut cum base broadening policy isoptimal because it improves incentives for relatively immobile …rms to reveal their true typeinstead of mimicking mobile …rms.
3.4 Income shifting and foreign …rm ownershipThe case analyzed in the preceding section refers to a world where …rm ownership is completelyconcentrated in one country. Given the setup of our model, this would imply that there aren ¡ 1 countries where the domestic household owns no equity of the multinational …rm, sothat these countries do not levy corporate income taxes. Such an equilibrium is not realistic.In this section, we therefore consider the case where income shifting exists but countries aresymmetric, i.e. the representative household in each country owns a share βj = 1/n of the…rm’s equity. The optimal tax policy is now as follows:
Proposition 4 If …rms may use internal debt for income shifting and if …rm ownership isdistributed symmetrically among all countries (βj = 1/n, j = 1..n), the optimal tax policy ofcountry j implies τ j < tj and εj < 0. Real investment is subsidized: φj < r(1 + ª).Proof: See the appendix.
Proposition 4 shows that, in the presence of both income shifting and foreign …rm own-ership, the e¤ects discussed in the preceding sections are combined. Propositions 3 and 4have in common that the optimal tax policy implies τ j < tj and εj < 0. This means that atax rate cut cum base broadening policy is optimal for any ownership structure (apart fromthe extreme case of βj = 0, where country j does not levy corporate taxes). It is su¢cientthat income shifting through internal debt occurs. The explanation for this result is thatgovernments reduce their corporate tax rates in order to limit the use of internal debt. Butthis has the undesirable consequence that domestic investment is subsidized, at the margin.The broadening of the tax base corrects this distortion. The result in proposition 4 that real
10
investment is subsidized (whereas this is not the case in proposition 3) is a consequence offoreign …rm ownership.
4 Policy coordinationIt is natural to ask whether there is room for welfare enhancing policy coordination amongthe n countries of the union. It is well known from the literature on tax coordination that acase for tax coordination can be made on the basis that the elasticity of capital supply for theunion as a whole may di¤er from the elasticity of capital supply faced by individual countries.By assuming that the e¤ect of the union on the world interest rate is negligible, this class ofarguments in favour of tax coordination is ruled out in our model. Moreover, it is well knownthat asymmetries between countries considerably complicates the analysis of tax coordinationbecause some countries may gain at the expense of other countries. We therefore focus on thequestion of tax coordination among symmetric countries. Here, we may state:
Proposition 5 If …rms may use internal debt for income shifting and if …rm ownership isdistributed symmetrically among all countries
¡βj = 1/n, j = 1..n
¢, a coordinated increase
of the corporate tax rate, departing from the equilibrium without coordination and holdingconstant the depreciation parameter ε, increases welfare.Proof: See the appendix.
The reason for the positive welfare e¤ect of an increase in the corporate tax rate is bestunderstood by considering the …scal externalities associated with a change in the tax rate.A higher corporate tax rate in country j reduces the share of equity in the …nancing of realinvestment in this country, i.e. αj increases. Moreover, an increase in τj raises the cost ofcapital in country j and reduces the level of real investment Kj. Both e¤ects raise the dividenddistributed in period 1. Since …rm ownership is symmetrically distributed over all countriesof the union, the higher dividend in period 1 increases private savings and, hence, revenuefrom the savings tax in all countries. This e¤ect on savings tax revenue in other countriesconstitutes a positive …scal externality.
One may note that this reason for the positive welfare e¤ect of a coordinated increase in thecorporate tax rate di¤ers from the standard argument in favour of corporate tax coordination,which is based on the idea that higher taxes in one country increase real investment in othercountries. This type of …scal externality is absent from our model because the union is assumedto have no impact on the interest rate in the world capital market.15
For similar reasons, our model allows to make a case for tax base coordination:
Proposition 6 If …rms may use internal debt for income shifting and if …rm ownership isdistributed symmetrically among all countries
¡βj = 1/n, j = 1..n
¢, a coordinated reduction of
the depreciation parameter εj, departing from the equilibrium without coordination and holdingconstant the corporate tax rate, increases welfare.Proof: See the appendix.
The reduction in the depreciation parameter implies a further broadening of the tax base(note that the reform already departs from an equilibrium with εj < 0). The reason for the
15Tax coordination among countries of a union which has some market power in the international capitalmarket is studied e.g. by Konrad and Schjelderup (1999).
11
positive welfare e¤ect of a coordinated broadening of the tax base is again that changes in thedepreciation parameter in one country give rise to a …scal externality: under tax competition,the individual countries do not take into account that, by broadening the tax base, realinvestment of the multinational …rm declines and more funds are distributed in period 1, sothat savings tax revenue in all countries increases.
5 ConclusionsIn this paper, we have analyzed the implications of international income shifting and foreign…rm ownership for corporate tax policy. Our analysis has shown that foreign …rm ownershipdoes not necessarily act as a break on tax rate reductions. Moreover, tax rate cut cum basebroadening policies may be seen as a reaction of national tax policies to income shifting throughinternal debt. This result is similar to the …ndings in Hau‡er and Schjelderup (2000), but thereason for the broadening of the tax base and the implications for production e¢ciency aredi¤erent. Finally, we have shown that there is a potential for welfare enhancing coordinationof tax rates and tax bases in our model.
There are several limitations of our analysis which should be taken into account. Firstly,our analysis is based on the assumption that residence based taxation of personal savings ispossible. It is well known that taxpayers may evade these taxes relatively easily by holdingbank accounts in other countries. But as long as interest income can at least partly be taxedon a residence basis, our …ndings should continue to hold. Secondly, we assume that foreign…rm ownership is given and ask how the optimal tax policy reacts to this. This neglects thatthe structure of …rm ownership itself will be in‡uenced by taxes. Clearly, investigating this isbeyond the scope of this paper.16 Another, more fundamental issue raised by our analysis iswhether countries should simply abolish interest deductions in order to avoid income shiftingthrough debt. In our model, this would give rise to a severe distortion of the …nancial structureof …rms in favour of equity …nancing, so that zero interest deductions are unlikely to be optimal.But it is not clear that this is a su¢cient reason to maintain the full deductibility of interest.We intend to investigate this issue in future research.
A AppendixIn this appendix, we give the proofs of propositions 1-6. We start by deriving the …rst-order conditions (f.o.c.) for the optimal tax policy. These will be used in the proofs of allpropositions. The Lagrangean for the government’s problem is
¡(wnj , tj, φj, τj, εj) = V (rn, wn, P ) + γf(wj ¡ wn
j )Lj + rtj(S¤j + βjR)
+τjKj[φj ¡ ª (αi, σi) r ¡ r(αj + σj) ¡ εj]¡ rβjtj
nX
i=1
(1¡ αi)Kig
+η·φj ¡
µrª (αj, σj) +
r(1 ¡ (αj + σj) τj ¡ (1¡ αj)Pn
i=1 βiti) ¡ εjτ j
1¡ τ j
¶¸
+ϑ(ε + 1)
16For an analysis of the impact of economic integration on tax policy in a model with endogenous foreign…rm ownership see Fuest (2003).
12
The …rst-order-conditions are
∂¡∂wn
j= (λ ¡ γ)L + γ[rtj
∂S¤
∂wnj+ (w1 ¡wn
1 )∂Lj
∂wnj
+∂Kj
∂Lj
∂Lj
∂wnj
¡τ j[φj ¡ ª(αi, σi) r ¡ r(αj + σj)¡ εj] ¡ rβjtj(1¡ αj)
¢] = 0 (A.1)
∂¡∂tj
= (γ ¡ λ)r£S¤ + βjR
¤+ γ[rt1
∂S¤
∂rn (¡r) + (w1 ¡ wn1 )
∂L∂rn (¡r)
+∂Kj
∂Lj
∂L∂rn
(¡r)©τj[φj ¡ ª (αi, σi) r ¡ r(αj + σj) ¡ εj] ¡ rβjtj(1¡ αj)
ª
+r£βjtjKj ¡ τ jKj[(ªα +1]
¤ ∂αj
∂tj¡ rβj
nX
i=1
(1 ¡ αi)Ki + rβjtj
X
i 6=j
∂αi
∂tjKi]
+η(1¡ αj)βjr(1¡ τ j)
= 0 (A.2)
∂¡∂φj
= ¡γKj (1¡ τ j) + η
+γ·∂Kj
∂φj
¡τ j
¡φj ¡ rª(αi, σi) ¡ (αi + σi) r ¡ εj
¢¡ rtjβj (1 ¡αj)
¢¸= 0 (A.3)
∂¡∂εj
= ¡γτ jKj + η τ j
(1¡ τ j)+ ϑ = 0 (A.4)
∂¡∂τj
=µ
γKj ¡ η(1¡ τ j)
¶¡φj ¡ rª (αi, σi) ¡ (αi + σi) r ¡ εj
¢
+γ¡βjtj ¡ τ j (ªα + 1)
¢rKj
∂αj
∂τ j¡ γ (ªσ +1) rKjτ j
∂σj
∂τj= 0 (A.5)
We focus on the case where the constraint ε ¸ ¡1 is not binding, so that ϑ = 0. Given this,equations (A.3) to (A.5) can be transformed into:
τ j
(1¡ τ j)
(r
Ã1 ¡ (αj + σj) ¡ (1¡ α)
nX
i=1
βiti
!¡ εj
)¡ rβjtj (1¡ αj) = 0 (A.6)
∂αj
∂τ j
(τ j
Ã1¡
X
i 6=j
βiti
!¡ βjtj
)+ ∂σj
∂τjτ j = 0 (A.7)
Proof of proposition 1. If σj = 0, ∂σj∂τj
= 0, βj = 1, j = 1, and using (A.4) in (A.2), (A.1)and (A.2) yield (15) and (16) in proposition 1. (A.7) and (A.6) collapse to τj = tj and εj = 0.Q.E.D.Proof of proposition 2. If σj = 0, ∂σj
∂τ j= 0, βj = 1/n, j = 1...n, (A.7) yields
τj
µ1¡ (n¡ 1)
ntj
¶¡ tj
n= 0
13
which can be rearranged toτ j =
tj1 + (n ¡ 1)(1¡ tj)
< tj
Using σj = 0, ∂σj∂τj
= 0, βj = 1/n, j = 1...n in (A.6) yields εj = 0. Using εj = 0 andτ j =
tj1+(n¡1)(1¡tj)
in (9) shows that
φj = rµªj +1 ¡ (1¡ αj)tj
(n ¡ 1)n
¶< r (ªj + 1)
Q.E.D.Proof of proposition 3 . If βj = 1, j = 1, it follows from (A.7) that
τ j ¡ tj = ¡τj
∂σj∂tj∂αj∂tj
< 0
>From (A.6), we get
τ j ¡ tj = τjσj +
εjr
(1¡ αj)(A.8)
Since σj > 0 it follows that εj < 0. Substituting (A.8) into (9) yields
φj = r (ªj + 1)
Q.E.D.Proof of proposition 4. If βj = 1/n, j = 1..n, (A.7) yields
µτj
µ1¡ (n ¡ 1)
ntj
¶¡ tj
n
¶∂αj
∂tj+ τj
∂σj
∂tj= 0
which can be rearranged to
τ j (1 ¡ tj) ¡ tj
n(1 ¡ τj) = ¡τj
∂σj∂tj∂αj∂tj
This impliesτ j < tj
1 + (n ¡ 1)(1¡ tj)
It follows that τ j < tj. Using βj = 1/n, j = 1..n in (A.6) yields
τj (1¡ tj)¡ tj
n(1¡ τ j) = τj
σj +εjr
(1¡ αj)(A.9)
Since σj > 0 and given that the left hand side of (A.9) is negative, it follows that εj < 0.Using these results in (9) yields
φj = rµªj +1 ¡ (1¡ αj)tj
(n ¡ 1)n
¶< r (ªj + 1)
Q.E.D.
14
Proof of proposition 5. A coordinated change in τj, j = 1....n a¤ects welfare directly andvia the induced change in the cost of capital. The change in the cost of capital is given by
∂φj
∂τj=
φj ¡ rªj
(1¡ τj)2¡ r(αj + σj) + εj
(1¡ τj)
Using the results of proposition 4, this can be transformed into
∂φj
∂τj= r(1¡ αj)
·1¡ t
(n¡ 1)n
¸> 0
The e¤ect on the welfare of country j is given by
d¡j =∂¡j
∂τ j+
nX
i=1
∂¡j
∂φi
∂φi
∂τ i
Given that the f.o.c. for the optimal policy under tax competition imply ∂¡j∂τ j
= 0 and ∂¡j∂φj
= 0,the welfare e¤ect is equal to
d¡j =nX
i 6=j
∂¡j
∂φi
∂φi∂τ i
= ¡γrtj
n
nX
i 6=j
·(1¡ αi)
∂Ki
∂φi
∂φi∂τ i
¡ ∂αi
∂τ iKi
¸> 0
Q.E.D.Proof of proposition 6. A coordinated change in εj, j = 1....n a¤ects welfare directly andvia the induced change in the cost of capital. The change in the cost of capital is given by
∂φj
∂εj= ¡ τj
(1¡ τ j)< 0
The e¤ect on the welfare of country j is given by
d¡j =∂¡j
∂εj+
nX
i=1
∂¡j
∂φi
∂φi
∂εi
Given that the f.o.c. for the optimal policy under tax competition imply ∂¡j∂εj
= 0 and ∂¡j∂φj
= 0,the welfare e¤ect is equal to
d¡j =nX
i 6=j
∂¡j
∂φi
∂φi
∂εi= ¡γr
tj
n
nX
i 6=j
·(1¡ αi)
∂Ki
∂φi
∂φi
∂εi
¸< 0
which implies that a coordinated reduction in ε increases welfare. Q.E.D.
ReferencesBond, R. S. (2000): “Levelling Up or Levelling Down? Some Re‡ections on the ACE and
CBIT Proposals, and the Future of the Corporate Tax Base,” in Taxing Capital Incomein the European Union. Issues and Options for Reform, ed. by S. Cnossen, pp. 161–179.Oxford University Press.
15
Chowdhry, B., and J. D. Coval (1998): “Internal Financing of Multinational Subsidiaries:Debt Vs. Equity,” Journal of Corporate Finance, 4, 87–106.
Chowdhry, B., and V. Nanda (1994): “Financing of Multinational Subsidiaries: ParentDebt Vs. External Debt,” Journal of Corporate Finance, 1, 259–281.
Desai, M. A., C. F. Foley, and J. R. Hines (2003): “A Multinational Perspective onCapital Structure Choice and Internal Capital Markets,” NBER, (9715), NBER WorkingPaper Series.
Fuest, C. (2003): “Economic Integration and Tax Policy with Endogenous Foreign FirmOwnership,” mimeo.
Fuest, C., and B. Huber (2002): “Why Capital Income Taxes Survive in Open Economies:The Role of Multinational Firms,” International Tax and Public Finance, 9(5), 567–589.
Fuest, C., B. Huber, and J. Mintz (2003): “Tax Competition and Capital Mobility: ASurvey,” mimeo.
Gresik, T. A. (2001): “The Taxing Task of Taxing Multinationals,” Journal of EconomicLiterature, XXXIX, 800–838.
Hart, O. (1993): “Theories of Optimal Capital Structure: A Managerial Discretion Per-spective,” in The Deal Decade: What Takeovers and Leveraged Buyouts Mean for CorporateGovernance, ed. by M. M. Blair, pp. 19–53. The Brookings Institution, Washington D. C.
Haufler, A., and G. Schjelderup (2000): “Corporate Tax Systems and Cross CountryPro…t Shifting,” Oxford Economic Papers, 52, 306–325.
Huizinga, H., and S. B. Nielsen (1997): “Capital Income and Pro…t Taxation with ForeignOwnership of Firms,” Journal of International Economics, 42, 149–165.
(2002): “The Coordination of Capital Income and Pro…t Taxation with Cross-Ownership of Firms,” Regional Science and Urban Economics, 32, 1–26.
Kind, H. J., K. H. Midelfart, and G. Schjelderup (2003): “Why Corporate Taxes MayRise: The Case of Economic Integration,” mimeo.
Konrad, K. A., and G. Schjelderup (1999): “Fortress Building in Global Tax Competi-tion,” Journal of Urban Economics, 46(1), 156–167.
Levin, L. D. (1994): “A Short History of the Portfolio Interest Exemption and US Real EstateInvestment by Non-Residents and Foreign Corporations: Too Much of a Good Thing,”International Bulletin of Fiscal Documentation, pp. 624–629.
Malherbe, J. (2002): “Harmful Tax Competition and the Future of Financial Centres inthe European Union,” Intertax, 30(6-7), 219–224.
Mintz, J., and M. Smart (2001): “Income Shifting, Investment, and Tax Competition:Theory and Evidence from Provincial Taxation in Canada,” CESifo Working Papers, (554).
(2002): “Tax-Exempt Investors and the Asset Allocation Puzzle,” Journal of PublicEconomics, 83(2), 195–215.
16
Olsen, T. E., and P. Osmundsen (2001): “Strategic Tax Competition; Implications ofNational Ownership,” Journal of Public Economics, 81, 253–277.
Osmundsen, P., K. P. Hagen, and G. Schjelderup (1998): “Internationally MobileFirms and Tax Policy,” Journal of International Economics, 45, 97–113.
Richter, W. F., and D. Wellisch (1996): “The Presence of Local Public Goods andFactors in the Presence of Firm and Houshold Mobility,” Journal of Public Economics, 60,73–93.
Rowland, A. K. (1995): “Thin Capitalization in the United Kingdom,” International Bul-letin of Fiscal Documentation, pp. 554–558.
Weichenrieder, A. J. (1996): “Anti-Tax-Avoidance Provisions and the Size of ForeignDirect Investment,” International Tax and Public Finance, 3, 67–81.
Wildasin, D. E., and J. D. Wilson (1998): “Risky Local Tax Bases: Risk-Pooling Vs.Rent Capture,” Journal of Public Economics, 69, 229–247.
17
CESifo Working Paper Series (for full list see www.cesifo.de)
________________________________________________________________________ 1031 Ivar Ekeland, James J. Heckman, and Lars Nesheim, Identifcation and Estimation of
Hedonic Models, September 2003 1032 Kjetil Bjorvatn and Alexander W. Cappelen, Decentralization and the Fate of
Minorities, September 2003 1033 Lars-Erik Borge and Jørn Rattsø, The Relationships Between Costs and User Charges:
The Case of a Norwegian Utility Service, September 2003 1034 Maureen Were and Nancy N. Nafula, An Assessment of the Impact of HIV/AIDS on
Economic Growth: The Case of Kenya, September 2003 1035 A. Lans Bovenberg, Tax Policy and Labor Market Performance, September 2003 1036 Peter Birch Sørensen, Neutral Taxation of Shareholder Income: A Norwegian Tax
Reform Proposal, September 2003 1037 Roberta Dessi and Sheilagh Ogilvie, Social Capital and Collusion: The Case of
Merchant Guilds, September 2003 1038 Alessandra Casarico and Carlo Devillanova, Capital-skill Complementarity and the
Redistributive Effects of Social Security Reform, September 2003 1039 Assaf Razin and Efraim Sadka, Privatizing Social Security Under Balanced-Budget
Constraints: A Political-Economy Approach, September 2003 1040 Michele Moretto, Paolo M. Panteghini, and Carlo Scarpa, Investment Size and Firm’s
Value under Profit Sharing Regulation, September 2003 1041 A. Lans Bovenberg and Peter Birch Sørensen, Improving the Equity-Efficiency Trade-
off: Mandatory Savings Accounts for Social Insurance, September 2003 1042 Bas van Aarle, Harry Garretsen, and Florence Huart, Transatlantic Monetary and Fiscal
Policy Interaction, September 2003 1043 Jerome L. Stein, Stochastic Optimal Control Modeling of Debt Crises, September 2003 1044 Thomas Stratmann, Tainted Money? Contribution Limits and the Effectiveness of
Campaign Spending, September 2003 1045 Marianna Grimaldi and Paul De Grauwe, Bubbling and Crashing Exchange Rates,
September 2003
1046 Assar Lindbeck and Dennis J. Snower, The Firm as a Pool of Factor Complementarities, September 2003
1047 Volker Grossmann, Firm Size and Diversification: Asymmetric Multiproduct Firms
under Cournot Competition, September 2003 1048 Dan Anderberg, Insiders, Outsiders, and the Underground Economy, October 2003 1049 Jose Apesteguia, Steffen Huck and Jörg Oechssler, Imitation – Theory and
Experimental Evidence, October 2003 1050 G. Abío, G. Mahieu and C. Patxot, On the Optimality of PAYG Pension Systems in an
Endogenous Fertility Setting, October 2003 1051 Carlos Fonseca Marinheiro, Output Smoothing in EMU and OECD: Can We Forego
Government Contribution? A Risk Sharing Approach, October 2003 1052 Olivier Bargain and Nicolas Moreau, Is the Collective Model of Labor Supply Useful
for Tax Policy Analysis? A Simulation Exercise, October 2003 1053 Michael Artis, Is there a European Business Cycle?, October 2003 1054 Martin R. West and Ludger Wößmann, Which School Systems Sort Weaker Students
into Smaller Classes? International Evidence, October 2003 1055 Annette Alstadsaeter, Income Tax, Consumption Value of Education, and the Choice of
Educational Type, October 2003 1056 Ansgar Belke and Ralph Setzer, Exchange Rate Volatility and Employment Growth:
Empirical Evidence from the CEE Economies, October 2003 1057 Carsten Hefeker, Structural Reforms and the Enlargement of Monetary Union, October
2003 1058 Henning Bohn and Charles Stuart, Voting and Nonlinear Taxes in a Stylized
Representative Democracy, October 2003 1059 Philippe Choné, David le Blanc and Isabelle Robert-Bobée, Female Labor Supply and
Child Care in France, October 2003 1060 V. Anton Muscatelli, Patrizio Tirelli and Carmine Trecroci, Fiscal and Monetary Policy
Interactions: Empirical Evidence and Optimal Policy Using a Structural New Keynesian Model, October 2003
1061 Helmuth Cremer and Pierre Pestieau, Wealth Transfer Taxation: A Survey, October
2003 1062 Henning Bohn, Will Social Security and Medicare Remain Viable as the U.S.
Population is Aging? An Update, October 2003 1063 James M. Malcomson , Health Service Gatekeepers, October 2003
1064 Jakob von Weizsäcker, The Hayek Pension: An efficient minimum pension to
complement the welfare state, October 2003 1065 Joerg Baten, Creating Firms for a New Century: Determinants of Firm Creation around
1900, October 2003 1066 Christian Keuschnigg, Public Policy and Venture Capital Backed Innovation, October
2003 1067 Thomas von Ungern-Sternberg, State Intervention on the Market for Natural Damage
Insurance in Europe, October 2003 1068 Mark V. Pauly, Time, Risk, Precommitment, and Adverse Selection in Competitive
Insurance Markets, October 2003 1069 Wolfgang Ochel, Decentralising Wage Bargaining in Germany – A Way to Increase
Employment?, November 2003 1070 Jay Pil Choi, Patent Pools and Cross-Licensing in the Shadow of Patent Litigation,
November 2003 1071 Martin Peitz and Patrick Waelbroeck, Piracy of Digital Products: A Critical Review of
the Economics Literature, November 2003 1072 George Economides, Jim Malley, Apostolis Philippopoulos, and Ulrich Woitek,
Electoral Uncertainty, Fiscal Policies & Growth: Theory and Evidence from Germany, the UK and the US, November 2003
1073 Robert S. Chirinko and Julie Ann Elston, Finance, Control, and Profitability: The
Influence of German Banks, November 2003 1074 Wolfgang Eggert and Martin Kolmar, The Taxation of Financial Capital under
Asymmetric Information and the Tax-Competition Paradox, November 2003 1075 Amihai Glazer, Vesa Kanniainen, and Panu Poutvaara, Income Taxes, Property Values,
and Migration, November 2003 1076 Jonas Agell, Why are Small Firms Different? Managers’ Views, November 2003 1077 Rafael Lalive, Social Interactions in Unemployment, November 2003 1078 Jean Pisani-Ferry, The Surprising French Employment Performance: What Lessons?,
November 2003 1079 Josef Falkinger, Attention, Economies, November 2003 1080 Andreas Haufler and Michael Pflüger, Market Structure and the Taxation of
International Trade, November 2003 1081 Jonas Agell and Helge Bennmarker, Endogenous Wage Rigidity, November 2003
1082 Fwu-Ranq Chang, On the Elasticities of Harvesting Rules, November 2003 1083 Lars P. Feld and Gebhard Kirchgässner, The Role of Direct Democracy in the European
Union, November 2003 1084 Helge Berger, Jakob de Haan and Robert Inklaar, Restructuring the ECB, November
2003 1085 Lorenzo Forni and Raffaela Giordano, Employment in the Public Sector, November
2003 1086 Ann-Sofie Kolm and Birthe Larsen, Wages, Unemployment, and the Underground
Economy, November 2003 1087 Lars P. Feld, Gebhard Kirchgässner, and Christoph A. Schaltegger, Decentralized
Taxation and the Size of Government: Evidence from Swiss State and Local Governments, November 2003
1088 Arno Riedl and Frans van Winden, Input Versus Output Taxation in an Experimental
International Economy, November 2003 1089 Nikolas Müller-Plantenberg, Japan’s Imbalance of Payments, November 2003 1090 Jan K. Brueckner, Transport Subsidies, System Choice, and Urban Sprawl, November
2003 1091 Herwig Immervoll and Cathal O’Donoghue, Employment Transitions in 13 European
Countries. Levels, Distributions and Determining Factors of Net Replacement Rates, November 2003
1092 Nabil I. Al-Najjar, Luca Anderlini & Leonardo Felli, Undescribable Events, November
2003 1093 Jakob de Haan, Helge Berger and David-Jan Jansen, The End of the Stability and
Growth Pact?, December 2003 1094 Christian Keuschnigg and Soren Bo Nielsen, Taxes and Venture Capital Support,
December 2003 1095 Josse Delfgaauw and Robert Dur, From Public Monopsony to Competitive Market.
More Efficiency but Higher Prices, December 2003 1096 Clemens Fuest and Thomas Hemmelgarn, Corporate Tax Policy, Foreign Firm
Ownership and Thin Capitalization, December 2003
